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Is Vertex Pharmaceuticals the Perfect Stock?

Finding companies that have all the right stuff can produce winners.

Every investor would love to stumble upon the perfect stock. But will you ever really find a stock that provides everything you could possibly want?

One thing's for sure: You'll never discover truly great investments unless you actively look for them. Let's discuss the ideal qualities of a perfect stock, then decide if Vertex Pharmaceuticals(Nasdaq: VRTX) fits the bill.

The quest for perfectionStocks that look great based on one factor may prove horrible elsewhere, making due diligence a crucial part of your investing research. The best stocks excel in many different areas, including these important factors:

Growth. Expanding businesses show healthy revenue growth. While past growth is no guarantee that revenue will keep rising, it's certainly a better sign than a stagnant top line.

Margins. Higher sales mean nothing if a company can't produce profits from them. Strong margins ensure that company can turn revenue into profit.

Balance sheet. At debt-laden companies, banks and bondholders compete with shareholders for management's attention. Companies with strong balance sheets don't have to worry about the distraction of debt.

Money-making opportunities. Return on equity helps measure how well a company is finding opportunities to turn its resources into profitable business endeavors.

Valuation. You can't afford to pay too much for even the best companies. By using normalized figures, you can see how a stock's simple earnings multiple fits into a longer-term context.

Dividends. For tangible proof of profits, a check to shareholders every three months can't be beat. Companies with solid dividends and strong commitments to increasing payouts treat shareholders well.

With those factors in mind, let's take a closer look at Vertex Pharmaceuticals.

Factor

What We Want to See

Actual

Pass or Fail?

Growth

5-Year Annual Revenue Growth > 15%

48.5%

Pass

1-Year Revenue Growth > 12%

812.5%

Pass

Margins

Gross Margin > 35%

93.4%

Pass

Net Margin > 15%

16.7%

Pass

Balance Sheet

Debt to Equity < 50%

36.2%

Pass

Current Ratio > 1.3

3.39

Pass

Opportunities

Return on Equity > 15%

40.8%

Pass

Valuation

Normalized P/E < 20

45.87

Fail

Dividends

Current Yield > 2%

0%

Fail

5-Year Dividend Growth > 10%

0%

Fail

Total Score

7 out of 10

Source: S&P Capital IQ. Total score = number of passes.

With seven points, Vertex Pharmaceuticals has only a little further to go to reach perfect status. Too-high valuations and a lack of dividends aren't likely to go away soon, but the company has plenty of potential for future growth to sustain its other numbers.

But competition is on the horizon. With new drugs in development from Achillion Pharmaceuticals(Nasdaq: ACHN), Bristol-Myers Squibb(NYSE: BMY), and Johnson & Johnson, some fear that Vertex's days in the limelight may be numbered. In order to win in the highly competitive hep C market, Vertex can't rest on the laurels of its Incivek success; it also has to develop a cocktail of other supporting drugs to improve safety and efficacy. Yet as Gilead Sciences(Nasdaq: GILD) moves forward with all-oral hep C treatments, any Vertex combination that involves injections will be at a big disadvantage. Moreover, as it cures patients, Vertex sabotages its own future revenue stream.

The key is to find new drugs in different areas. Yesterday, Vertex shares vaulted 55% higher after the company released favorable results for its Kalydeco cystic fibrosis drug. Although the drug has a long way to go before it would come up for approval, the news marks a nice turnaround from past disappointment.

For Vertex to keep moving forward, it needs to follow through with successes in its pipeline. With its strong combination of existing drugs and new prospects, Vertex could easily become a perfect stock in the coming years.

Keep searchingNo stock is a sure thing, but some stocks are a lot closer to perfect than others. By looking for the perfect stock, you'll go a long way toward improving your investing prowess and learning how to separate out the best investments from the rest.

Click hereto add Vertex Pharmaceuticals to My Watchlist, which can find all of our Foolish analysis on it and all your other stocks.

Fool contributor Dan Caplinger doesn't own shares of the companies mentioned. The Motley Fool owns shares of Johnson & Johnson. Motley Fool newsletter services have recommended buying shares of Vertex Pharmaceuticals, Johnson & Johnson, and Gilead Sciences, as well as creating a diagonal call position in Johnson & Johnson. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Fool has a disclosure policy.

Author

Dan Caplinger has been a contract writer for the Motley Fool since 2006. As the Fool's Director of Investment Planning, Dan oversees much of the personal-finance and investment-planning content published daily on Fool.com. With a background as an estate-planning attorney and independent financial consultant, Dan's articles are based on more than 20 years of experience from all angles of the financial world.
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